The Simple Path to Wealth

VITA, income taxes and the IRS

I wasn’t planning to do it again this year, but in the end I signed up. If I had been planning better, the work for my re-certification would be mostly done by now. But I’ve yet to begin. Too much traveling and playing. I knew this of course. It is the reason I wasn’t planning to re-up. But the new guy running our local program reached out, assured me there would still be time when I returned from Europe. Assured me the need was critical. He didn’t assure me that the IRS would be any less rigorous in its demands. We both know better than that. Still, this past Tuesday evening I showed up for the first orientation meeting and met everybody else. They are all further along than I.

Assuming I catch up, once again I’ll be working with our regional VITA (Volunteer Income Tax Assistance) program preparing tax returns for our local poor and immigrant population. It will be my third season. It is gratifying work, even if the training ahead in the next couple of weeks is daunting.

The work, and the training the IRS requires for certification, has given me an inside look. What virtually every volunteer agrees on is, the tax code is far too complex.

The tax code is complex precisely because it provides goodies for everyone.

The rich (and the thrifty but not so rich) get the favorable treatment of capital gains, dividends and tax-free municipal bonds. Not to mention the specific tax breaks for specific industries. This being the reason our corporate tax rate at 30% is one of the highest in the world but the effective corporate tax rate is only 12%, one of the very lowest.

The middle class get deductions for IRAs, 401ks, mortgage interest, real estate taxes, children and dependents.

The poor also get exemptions for children and dependents, along with the child tax credit and earned income tax credit. Tax credits are especially beneficial things. Most deductions reduce your tax liability only to the extent you have a tax liability. Then they become worthless. Tax credits can provide refund dollars in excess of taxes withheld and beyond any tax liability. That is, if you owe $500 in taxes and have a $1000 tax credit, not only is your tax liability wiped out, the government will give you the remaining $500. The take away here is, even if you are sure you don’t owe any tax it can be worth it to file.

I use the term ‘goodies’ above in this sense:

The core reason for income taxes is to raise revenue to operate the government and it’s services. But congress was quick to realize that once in place the federal income tax could also be used as a tool for social engineering. This is done by providing incentives in the form of deductions for certain behaviors.

You want more people to have kids? Child tax credits and exemptions.

You want more people to own homes and the social stability that provides? Deductible mortgage interest & RE taxes.

You want people to invest and grow the economy? Preferred rates on dividends and capital gains.

You want people to give to charity? Charitable deductions.

These incentives, what I call goodies, are not about keeping your own money. They are not about raising revenue. They are about doling it out to those who behave in a “proper” way.

In the world of VITA volunteers I hear little talk about the tax system being “unfair” but lots of conversation about it being far too complex. Indeed, as I prepare returns for folks I frequently ponder how insane it is to expect the average taxpayer to wade thru it. I guess that’s why the IRS support VITA programs.

Most all volunteers (regardless of political leanings), myself included, favor some version of a simpler, flatter tax that sweeps away deductions in favor of lower rates. Don’t hold your breath, and even if it were to happen it won’t last. Congress would promptly begin creating new goodies to influence social behaviors, reward supporters and to garner influence.

Of course PAID tax preparers like our complex system just fine. I feel about them much the same as I do about Financial Advisors. Better to learn to do your own taxes or seek out the free help offered by your local VITA. Volunteers are well-trained, each return is double checked and the work is respected by the IRS. Oh, and it’s free.

It may surprise you, but I also give high marks to the IRS:

The training they provide is excellent.

The focus of this training is accuracy.

The IRS is not out to screw anybody, indeed a regular refrain is our obligation as preparers to seek out every deduction, credit and benefit to which the taxpayer has a legal right.

They have done an excellent job in taking a nightmare tax code and reducing it to a series of simple forms that actually make sense. At least after some training.

They are very focused on weeding out tax cheats. Since cheats are taking money out of the pockets of all their fellow taxpayers, including me, this is as it should be.

and for those of us warped enough to enjoy playing with taxes, it’s fun!

If this kind of work appeals to you I’d encourage you to check into it. As our site leader used to say, if nothing else it will give you some great insights and stories. But be aware, sometimes there is not a lot in the way of appreciation from your clients. I’ve had people bitch at me throughout the entire process. That’s tough to take at any time. But when you are providing a free service it is especially grating. I conclude that one of the reasons some, certainly not all but some, people are poor is a lack of basic social graces. Dealing with it is good Zen practice.

That said, I’ve also had many very appreciative clients. Knowing you’ve helped someone with what might have otherwise been an overwhelming task and spared them from the clutches of store-front paid tax preparers is a great feeling.

The work has also given me a greater insight into and sympathy with the working poor. The sheer industriousness of some of our clients is inspirational. Their stories, both spoken and as revealed in their taxes, are compelling. After a time, it’s not hard to tell who is on their way out of poverty and who will be spending their life mired in it.

Of course, the training also provides insights into my own taxes and possible strategies. Since I’m now retired, I can enjoy what Mr. Money Mustache has called “the lovely low taxes of early retirement.” Let’s take a look.

Over the years Mrs. jlcollinsnh and I have built up a nice stash in our retirement accounts. As we all know, these accounts are not tax-free, they are tax deferred. Big difference. And the IRS requires that we begin withdrawals and paying taxes on them once we turn age 70. We could just wait, but tax rates are low now. We’d like to get these accounts shifted in to Roth IRAs at the lowest cost possible. Roths earn tax-free, withdrawals are tax-free and they can be passed to heirs tax free. A pretty good deal.

Since we’re married we file as “Married Filing Jointly,” the most attractive filing status. (The government rewards marriage. See above.) This means we can have income of up to $70,700 and still be in only the 15% tax bracket. But it gets better:

$70,700 income

$11,900 standard deduction

$11,400 exemptions. ($3800 x 3 for the two of us and our child.)

$94,000 total.

This means we can have up to 94k in income and still pay only a 15% marginal tax rate. So here’s what we do:

Take my wife’s income (she still works) and add our taxable interest and dividends. Subtract that total from 94k. Shift that remaining amount from regular IRAs into our Roths. Pay only 15%. That’s a deal I can live with. Plus I understand our government can use the money right now.

Serving with VITA helps my community and it helps me. I’ll be challenged, learning and having fun doing this again this year. Looking forward to it. Just wish I had the re-certification behind me!

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Comments

So you’re a good guy for donating your time to do this. But how is this VITA organization any better than Turbotax (freedom edition is free for low income folks…should be up and running any day now) for these individuals? Surely Turbotax is simple enough for even the stupid among us to figure out (like me).

Some people don’t have a computer, or the language skills, or even the ability to sit down at a computer to learn. Basically, they need a hand to guide them calmly and patiently through it.

My mom is a prime example, but luckily her taxes come in a booklet with all the numbers filled in, and if they are correct she can just SMS or email “accept” to a number and that’s it for filing her taxes.

There is a turbotax free edition coming??? This is something I didn’t know. Last year we could have qualified for this since we were poor grad students. Must check out. I could tell a lot of people of this. I come from a rural area and unfortunately there is no VITA. There is a tax preparer who charges $120 per filing. Most of the people that go to the taxpayer are low income hispanic people. I know because my parents used to go there, until I told them I would prepare the taxes for them on turbotax which was cheaper.

I just got really excited that it might be free through Vanguard…..but it turns out that’s only if you have enough money invested with them. It does appear that the rest of us get a $20 discount although with my low income I’ve always been able to use the simple free version.

My wife does daycare in our house and we have always filled out a long questionaire and shipped it off to our tax guy with $325 . When I look over all those forms I have no idea how he came up with those numbers…seems very complicated. I would love to do it myself.5

It looks to me like you need over a million, that gives you Flagship status which is what you need for it to be free. Everybody else it’s 20 bucks but free efile for federal and state–I don’t know if that’s only one state, I need two. Wish it were 50,000 as I’d qualify for that.

I’ve done this twice and the last time, in addition to warm bodies doing returns, they also had computers where people could do turbotax for free. It was a good system because then people didn’t have to wait for so long and if they had questions about the program the preparers could help them. It’s definitely the VITA program but the Food Bank for NYC is also involved so maybe they got funding for free turbo tax donated to them.

I’ve thought about doing this very thing, and mostly for the very selfish purpose of learning more about the tax system and getting a little gold star to put on my resume. hah

Providing the service for free must be pretty gratifying, plus it might satisfy some little Nosy-Nellie nerve in seeing what people make and the pride in seeing how they save and the sadness in how some spend.

There’s feel-good in both. You can see how some people will work their way out of poverty and help them by pointing in the right direction and encouraging them, and there’s the feeling of “at least I’m not that far gone as these guys” when you see the ones who will never have a dime to their names.

Of course, I could just be incredibly depressed by it all.

Still, I think the most compelling reason (ok, flog me gently, I’m young and selfish) is that I get free training in something most people consider voodoo.

I should definitely Czech it out!

As an interesting side note, I was unemployed earlier this year and there was a volunteer position available for doing Financial Consulting for geriatrics. Basically, help poor old people balance their checkbooks and reign in spending etc.
I happened to gain full-time employment right when they called me in for training, but I would have had to decline anyway because it was a religious organization.
I do take exception to charity being limited to The Flock. I think it’s a social good that shouldn’t be limited or hold the beneficiaries hostage to ideology or faith to be able to get it.

If VITA is a non-denominational, governmental, universal, hand-holding, kumbaya-singing, feel-good, hippie sort of thing where everyone is welcome to throw down some tax forms and play hackysack, I’m all for it. 😀

Reading the Bogleheads forum I gathered it’s not a good idea to move from a regular IRA to a Roth IRA later in life. I believe the thinking is you won’t get back what you pay in in up front taxes.

But as far as I’m concerned I don’t really care. If it’s 30 years forward and I’m still pulling money out of my IRA, I’d like it to be a ROTH.

Here’s something that confuses me too. I have a different number of accounts and I forget what’s my initial investment and what’s interest. How do I remember the cost basis on so many different accounts? That’s why I’m glad after reading your posts, I put most of my monies in Vanguard accts.

This year I’m going to do my taxes via Turbo Tax and not use a tax man. I have someone that will look at it when I’m done just to make sure there’s no red flags. If I can do it myself and am successful I’ll be very happy. I’ve been paying over $300/year to have my taxes done and I will gain more control and confidence if I can do them myself.

it’s a tough call on moving the money from a regular IRA to a Roth for us Geezers. My fear is that come age 70 it will have grown to where the required withdrawals push me into a higher bracket. Once I bleed it down a bit I’ll probably stop.

Turbo Tax is fairly user friendly, if tedious. But the end result should be just fine.

Depending on how complicated your taxes are, you might not need more than a relatively simple tax program. I’ve used H&R Block for years but might consider TurboTax (or whatever it is Intuit owns) this time around. Only reason for that is that last year I wanted to see if the premium version of H&R Blocks version could save me more dosh – and it would happily let me upgrade to a more expensive version, but not downgrade to the normal version! Pissed me right off.

I used a tax man when I bought my house, but unless he sits down and tells me that I should do xyz for better deductions etc, he’s no better than the far cheaper software.

Do this – do your taxes by hand with forms. Figure what you get back/owe.
Do your taxes with online software (Turbotax, H&R Block etc) and see if you save a few dollars.
See if you can figure out if your tax guy can save you even more.

I’m sure you’ll find that you’ll get just as good a result when you do it yourself.

The only way to stop social engineering by our elected officials is to take that very power away from them by enacting flat tax or fair tax. Recent drama(so-called fiscal cliff) is a prime example for all of us to have a simpler tax code.

A true flat tax, or hell, even a marginal flat tax, would probably be a boon to everyone. The simplification of the tax code would streamline both government income and tax preparation by us, the minions.
I’m not entirely sure what the Laffer-Curve has to say about it, but the Russian Federation model has apparently worked very well.

Or it’s just that instead of social engineering, they use outright corruption. Hmm.

I learn something new from you every time I read a post! I honestly, didn’t know about the exemptions. I knew we could take a standard deduction, but didn’t know about the exemptions. I’m a hands on person. I would rather manage my investments and inform myself than pay somebody else to do it.

I think I met you via a comment on my VITA post last year! So glad you’re doing it again! I agree…I took my taxes in to a paid preparer one year. He was HORRIBLE. Wanted to charge me $300 and had missed $2000 in deductions that I knew about. I resolved to just learn the right way to do them ever since then.

Many years ago, when I owned investment real estate, I had a tax guy who used to say “If you’re not getting audited you’re not taking enough deductions.” I was audited every year he did my taxes. The only times, before or since.

Hats off to you Jim for tangling with our tax code on behalf of others! I’m still evaluating the Roth conversion decision. Hard bringing myself to pay any extra taxes now based on speculation about what the unknown future will bring. Would be interested in more posts from you on your experience in that area….

…the Roth conversion is a tough call as it requires forecasting the future. 🙂

My thinking is pretty simple:

Converting at 15% is a good deal that might not always be there. For instance, had we gone over the fiscal cliff and taxes had reverted it would have disappeared, at least for me.

Concern that by the time I’m 70 and the government is dictating my levels of taxable withdrawals my IRAs might be at a level where those withdrawals will be large enough to push me into a higher bracket. Especially since we’ll also be collecting Social Security that will add to our taxable income. Nice problem to have, but a problem that needs consideration none-the-less.

Good points. I tend against any action that requires predicting the far future, parting with my money sooner than later, or adding complexity to my life (especially if that involves taxes). But this should be our first year back in the 15% bracket in a long time, so I will be revisiting the issue from a more practical, hands-on perspective. If I come to any major conclusions, you can bet I’ll write a post!

As “the guy running the local program” I can tell you that the site listed, the “VITA locator” on the IRS we site will tell you locations, as will calling 2-1-1, our NH Information and referral line. To volunteer, people cal call me at (603) 224-2595 ext. 230.
Cary